#IndependenceDaySpl: How Indian financial markets won their freedom from a Broker-run coterie

Can you imagine that for one whole month way back in the early 1990s no stocks were traded in Mumbai? It did not matter whether you were a Tata or a Birla or an Ambani or a Godrej or a Wadia or for that matter the Life Insurance Corporation of India. You just did not know the value of your stocks lying in your cupboard.

Not so long ago the Indian government, listed stocks, company managements and investors of all hues were hostages to a closed coterie of brokers running our financial markets. It was THE private club to belong to, only that entry was restricted to a few.

They decided when the markets would open, who would get paid for shares sold and who would get delivery for stock purchased. In short, their control was total.

It wasn’t a gang of people who had white skins and ran our markets from overseas. They certainly weren’t aliens either but everyone accepted their rule without murmur.

Since it is August 15^th today this is just the right time to check out how hard investors fought for their freedom.

So, read on:

Today a transaction happens at the push of button on a mobile phone. Invisible shares are transferred to your demat account or money hits your bank in less than 3 days. But imagine if you did not get paid for 3 months for the shares you sold, or worse you did not get the stocks that you purchased for as long as 6 months?

Life was tough for an investor until the late 1990s. The poor fellow needed more than just luck to make money. He needed a huge effort just to keep his legitimately purchased portfolio in his name. All around him were fake share certificates, many brokers who would refuse to pay on time, if at all, and often hand out bad deliveries when pressed to the wall.

The poor investor did not even have a government mandated regulator until the mid-1990s. He had just no shoulder to cry on.

The world of investing was unequal. It was cruel as well.

Unlike today where the dominance of the National Stock Exchange is unquestioned, Indian markets were fragmented. From the early 1900s to the 1990s there were more than a dozen stock bourses across the country even though the dominant alpha male remained the Bombay Stock Exchange. A broking ticket on the BSE could set you back by a cool 4 crore rupees and it wasn’t available off the shelf even if you had the money lined up.

Right up till the mid-1990s, a broker on the BSE was like GOD: in capital letters. The broker was the ultimate He-Man. He controlled the destinies of investors, listed companies and their managements. In him rested the power to push any stock to stratospheric levels or to bring it down into the basement in a matter of a few trading days. His wealth was unimaginable.

An investor would pay at least 2 percent brokerage on either side to just get his transaction completed. Since there were no screens and trading was done in a small ring, invariably the fellow was billed the highest rate when he bought the stock and the lowest price when he sold it. The misery did not end here.

The world of share certificates was physical. You got a handful of dirty, greasy and torn share certificates in exchange of money paid weeks, perhaps, months in advance. They had a transfer deed attached on top of them with a signature of the current holder. You stuck revenue stamps at the back of the transfer deed and sent it to the company’s address to get the shares transferred in your name.

Most investors were God fearing. They had to be.

It was entirely possible that the share certificates would come back as fake, or the company could sit on them for months together to create an artificial scarcity of the stock in the market. If you DON’T have delivery, you CAN’T sell, can you?

In the meantime the price would be jacked up and you couldn’t do a thing to benefit from that lovely rise in the value of your holdings because you did not get the shares returned to you! They would come back once the price settled about 50 percent lower.

And if you were really unlucky, the seller’s signature on the transfer deed wouldn’t match the one kept in the company’s records.

There were scams galore. You think of it and it happened here in India. IPO scams, aqua-culture companies without ponds and Timber companies without forests merrily raised money and ran away.

So, how did all this end?

Well, there was a massive scam in 1991 led by a broker called Harshad Mehta. No one will EVER come close to Harshad’s charisma. No one. Harshad was much bigger than Dilip Kumar, Rajesh Khanna, Amitabh Bachchan and Shah Rukh Khan all rolled together. Waves and waves of investors would come to greet him when he stepped out of the BSE. Harshad mesmerised everyone from the government, to investors, to companies, to managements and the retail investors.

All came under his spell.

Harshad misused a local financing tool to raise funds. When the scam broke out, the government came down heavily on the coterie of brokers. It wanted someone to be punished for the crime which saw many PSU bankers losing their jobs.

And how did the brokers respond? They shut the BSE for one month. No trade was done. No scrip was quoted and no one knew what his or her portfolio was worth.

A government held hostage struck back with equal ferocity. The Securities & Exchange Board of India was set up.

The crisis also led to the inception of the government backed National Stock Exchange which guaranteed the following: Trades would be settled on each Tuesday. Money would hit your bank on Wednesday or the shares would be delivered to you within a week. Your trade was guaranteed by the NSE. It would result in either payment of money or delivery of shares.

Slowly but surely investors started to move their transactions to the NSE. The BSE lost its sheen. Later, the government mandated that all share certificates be dematerialised and physical deliveries be stopped. By early 2000 all deliveries became electronic and trading was screen based.

The trading ring in the BSE fell silent.

At the same time Badla financing was replaced by Futures and Options trading. Slowly the BSE followed the NSE in its settlement and payment procedures. But the battle was lost. All regional stock exchanges died a natural death.

It’s a rare business case where a public sector company won handsomely against a privately run giant. And it all happened in India!

Today, investors and traders enjoy unparalleled freedom on Indian stock exchanges as they are the best in the world when it comes to technology, speed and transactional quality. I hope this continues well into the future.

But it was one heck of a battle that the small guy won and won handsomely!

Image credit: Indiatimes